Hedge-Fund Dispute Stalls 2017 Investment Plan For Public Pension System

Treasury downplays significance of deadlock, indicating issue could be resolved at August meeting of NJ State Investment Council

Click to expand/close

It looks like New Jersey’s public-employee pension system will enter the next fiscal year without a new investment plan in place thanks to a lingering disagreement over how heavily to rely on hedge funds.

The deadlock on the hedge-fund issue won’t bring investment activity for the $71 billion pension system to a halt when the new fiscal year begins July 1, but it will prevent in-house fund managers from enacting the fine-tuning they’ve recommended to keep up with changing financial markets over the next 12 months.

It also demonstrates how ongoing tension between public-worker unions and Gov. Chris Christie, a Republican who has pressed an agenda that’s centered on cutting public-worker benefits, has now started affecting how pension-investment decisions are being made.

Officials from the state Department of Treasury downplayed the significance of the deadlock yesterday, saying the issue could be resolved with little impact to the overall pension system during the next meeting of the New Jersey State Investment Council, which is scheduled for August.

The fault lines among members of the investment council on the specific issue of hedge-fund investments have been building up for over a year now, with several public-worker union officials on the panel questioning whether the severely underfunded pension system can afford to continue paying millions of dollars in fees to outside hedge-fund managers.

New Jersey’s pension system is roughly $44 billion in debt thanks to years of underfunding by the state under governors from both parties. Christie has continued the practice, putting a further strain on a system that covers an estimated 770,000 current and retired employees.

The hedge funds at issue are one class of what are known as alternative investments; a recent report released by the state indicated fees for all pension-system alternative investments totaled more than $700 million during the 2015 fiscal year.

Gubernatorial appointees on the investment council, including Chairman Tom Byrne, have defended the investments as an important part of a broader diversification strategy that protects against the types of widespread losses the pension system suffered during previous economic downturns. They also maintain that since a good chunk of the hedge-fund investment fees are paid out based on performance, the state is getting a good overall return when the fees are put in context.

A recent consultant’s report released by the state, determined that the hedge funds and other alternative investments generated more than 9 percent returns net of all fees over the last three years. That beat the pension system’s 7.9 percent assumed rate of return, and the 6.6 percent gains generated over the same three years by all of the system’s other, more traditional investments.

The disagreement over the hedge funds broke out in full force during the council’s public meeting in Trenton last month as the investment plan for the 2017 fiscal year came up for a discussion.

In-house managers from the state Division of Investment had recommended scaling back hedge-fund stakes from 12.5 percent to 9 percent of total investments. They said they were also readjusting the hedge-fund portfolio to favor those with far lower fees than the standard 2 percent charged for managing the investments and as much as 20 percent taken from all profits.

Adam Liebtag, an AFL-CIO labor-organization representative on the council, made a motion to instead cap hedge-fund investments at 4 percent during the next fiscal year. When his motion resulted in a tie vote among the 14 members in attendance, that stalled the overall advancement of the broader 2017 investment plan.

Although there was talk of setting up a special meeting to help resolve the differences before July 1, officials from the Department of Treasury confirmed yesterday that no meeting will occur and that the pension system will instead break from tradition and start the new fiscal year operating under the same asset-allocation plan that’s been in place for the 2016 fiscal year.

It’s unclear when the pension system last entered a new fiscal year without a new investment plan in effect, but Treasury spokesman Joseph Perone yesterday downplayed the impact it would have on the broader investment strategy. He said many other states set investment targets for more than just one year. “Therefore, whether we set the targets in June or August is not a big issue,” Perone said.

Liebtag had a different take. He called the lack of an adopted investment plan for the new fiscal year “significant.” He said, “A meeting didn’t happen in June and we are asking for a meeting to happen in July so we can try to reach a resolution on this issue.”